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James Carthew: ScotGems’ soft start needs explanation

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James Carthew: ScotGems’ soft start needs explanation

It has been a busy year for new issues and we still might see a few more make it over the finish line before Christmas. Although property in various forms has been popular, we have also witnessed a few equity trust launches get off the ground. 

Jupiter Emerging & Frontier Income (JEFI) raised £90 million and has continued to expand, Aberforth Split Level Income (ASIT) raised £237 million from investors rolling over from the winding up of Aberforth Geared Income Trust and Downing Strategic Micro-Cap (DSM) raised £56 million for smaller company investor Judith MacKenzie in May.

Global smaller companies trust ScotGems (SGEM) was the smallest of the debutants, just exceeding its £50 million minimum fund raising target at its launch in June.

Managed by Ashish Swarup and Tom Allen at Stewart Investors in Edinburgh, ScotGems invests in the best companies they can find across the world with a market value under $2.5 billion (£1.9 billion). It aims to provide long-term capital growth but – like other trusts in the Stewarts stable – emphasises preserving investors’ capital as much as expanding it.

Unfortunately, ScotGems has got off to a weak start. With its launch expenses capped at 1% ScotGems started life with a net asset value (NAV) of 99p per share but has seen this dip to 96.8p. The share price ended last week at 92p, a 4.4% discount to NAV and featured in the 'cheap trusts' table in 'Investment Trust Watch' on Friday.

ScotGems’ 2.2p NAV fall is notable given that, according to its latest factsheet, at the end of September it had invested less than a quarter of its money and held 76% cash. By contrast, its handful of rivals have reported modest but positive NAV gains of 3.5% on average in the past six months.

ScotGems is trying to build a concentrated portfolio of 20-30 stocks with a maximum position size of 15%. It can go anywhere in the world and there are no restrictions on geographic or sector weightings. In practice though, the managers say Asia Pacific (excluding Japan) and emerging markets will be favoured because they offer superior long-term growth prospects. The composition of stock market indices are not taken into account when selecting stocks.

The other defining characteristic of the portfolio is the focus on choosing companies ‘controlled and run by responsible stewards and effective management’. What this means is the managers want companies with good corporate governance; management teams they like and trust; and a track record of treating customers, employees and suppliers fairly. This conservative, sustainable investing style is shared with other funds in the group including Pacific Assets (PAC) investment trust.

I’m an investor in Pacific Assets. It has a decent long-term track record but over the past year its performance has trailed its rivals with a widening discount undermining shareholder returns. The current market conditions do not seem to suit the stewardship approach. In Asia, tech stocks have driven stock markets and, since growth forecasts in China have perked up, investors have become less risk averse.

ScotGems’ investment process stresses the importance of not overpaying for investments and it could be that the rapidly rising market is discouraging the managers from committing capital. Stewart Investors are long-term investors with a three- to five-year time horizon and an absolute return mindset, they are unlikely to feel pressured to get the issue proceeds invested in a hurry. The prospectus actually gives them a year from the issue date to reach full investment.

Nevertheless, some explanation for ScotGems’ recent weak NAV would be useful. The fact sheet I mentioned contains no update from the managers at all.

In the medium term, the biggest challenge ScotGems faces is probably its small size. F&C Global Smaller Companies (FCS) fund has a market value of £800 million, while Edinburgh Worldwide (EWI) has £346m. The Harwood Capital managed Oryx International Growth (OIG) and North Atlantic Smaller Companies (NAS) stand at £129 million and £489 million respectively.

Its smaller size makes ScotGems shares less liquid to trade and relatively expensive. At launch Stewart Investors agreed to cap the trust’s annual ongoing charges at 1.5%, which is good but still leaves it quite a bit more costly than FCS and EWI which charge 0.61% and 0.92% respectively.

James Carthew is a director at Marten & Co, the investment research company that also operates the Quoted Data website for private investors. The views expressed in this article are his and do not constitute investment advice.


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